The Fundamental Economic Principles of Wages

There is a growing movement to create what is called a “living wage,” essentially a high minimum wage that would allow someone to raise a family of four while working 40 hours a week at a fast food counter.  This certainly sounds like a worthwhile goal and it would be great to lift everyone out of poverty simply by paying them more.  Those of you working those jobs might also be thinking, yeah, it would be great to get $15 per hour.  If you are an older adult raising a family on a minimum wage salary, you might be thinking you could quit your second job if you could make so much at your first job.

But don’t fall for the bait.  The people pushing for these changes aren’t single moms working 80 hours a week trying to make ends meet for their three kids.  They are professional union organizers who want to form minimum wage earners into unions and then collect dues from them.  After seeing the auto industry in Detroit implode and union member ship drop off significantly, they are eager to build a new base to pay to keep them in their posh positions and their posh offices.  Unions are terrible for young people, since theyare based on tenure where those who have been at a job longer get to choose their shift and get first dibs for everything.  Likewise, those who have been there the shortest amount of time are the first to get fired when lay-offs come and unions are perfectly willing to see big lay-offs before they are willing to give an inch in benefits.

The truth is, many of the positions that pay minimum wage couldn’t pay more because the economics just don’t work.  If you were growing six ears of corn, could you expect to be able to trade it to someone else for a year’s worth of food, shelter, and clothing just because you really needed it?   No, you couldn’t because the person on the other end of that deal would soon see his family starving to death because he made an unequal trade.  If you raise wages to $15 for fast food workers you’ll see those working at the registers replaced with kiosks and smart phone apps.  You’ll see drive-thru order takers moved overseas (we’re already seeing this).  You’ll see cooks replaced with automation as well.  As an alternative, you might see chefs from culinary institutes hired at fast food places and food quality increased to allow the restaurants to charge enough to cover the higher salaries.  Either way, you’ll see entry-level jobs all but disappear, making it impossible for people to get the experience they need to get better jobs, which is what everyone in the minimum wage jobs should be trying to do.

The reason you won’t see employers just go along and increase wages isn’t that they are greedy and want to sit on their pile of cash at home and not dole it out.  It is that having these wages violates the fundamental principles of economics, and just like you can’t defy gravity just because it would be helpful, you can’t take care of a family of four without producing enough just because you want to do so.    Read these fundamental principle and think about them a bit and I think you’ll agree that a living wage just won’t work.  I just hope you realize this now and not in a few years after a living wage is enacted and everyone is starving to death because there are no jobs

1.   Someone needs to produced whatever is consumed.

This is very obvious when you are growing your own food and hunting your own animals on the frontier, but gets lost when you have a large economy with a lot of government handouts.  You can hand out dollars all you want, but someone needs to produce that food you are eating, that shirt you are wearing, and that home you’re living in or the dollars printed are just pretty pieces of paper.  If everyone is sitting around getting “stuff for free,” you can keep receiving a check in the mail but there won’t be anywhere to spend it.

2.  You cannot be paid more than the value of what you produce.

People who get paid more, on average, produce more.  A person who makes food for 100 people a day makes less than a person who opens a chain of restaurants and feed a hundred thousand people a day.  If you are being paid $15 per hour but are only producing something worth $5 per hour, your employer would be losing $10 per hour by having you work there.  Realize also that there are costs beyond your pay, such as your benefits and insurance, personnel paperwork, rents, utilities, and materials costs.   If your boss paid you more than what you produce, eventually he would run out of money.  The only sensible thing to do if forced to pay more than employees are producing is to lay off employees until they are making enough to cover salaries and still make a profit.  (And if he doesn’t make a profit, what is the point of him putting in the hours doing it?  Would you make the effort to deal with you and your coworkers as a manager if you got paid the same thing for just pushign a broom when asked?)  If this is not possible, the only choice is to close down.

3.  Maximum prosperity comes when everyone produces all he/she can.

Prosperity if the amount of stuff people have.  The more stuff that is produced, the more there is to go around and the more prosperous everyone can be.  Certainly there will always be people who truly can’t work, but motivating everyone to do what they can makes everyone richer.  Note that one of the times of greatest economic prosperity in the United States was during the mid to late-nineties after the Republican Congress passed welfare reform, requiring many individuals who had lived on welfare to go back to work.  More people were working, so more was being produced and everyone was wealthier.

4.  Requiring work to gain basic needs motivates production.

There are a lot of people who will do nothing productive all day if their basic needs are met.  Give out food, shelter, and clothing and you’ll find a lot of people who choose to just stay home (see the housing projects).  While it may seem like the necessities of life should simply be given, someone needs to produce those necessities and you cannot expect a few people to produce enough for everyone.  If instead most people go out and do what is needed to provide for their necessities, it is much easier to meet everyone’s needs.

If you are in a minimum wage job, instead of protesting to get a living wage, do things to allow you to produce more.  Learn skills that enable you to operate machines and software that will let you do 100 times as much as you could without them.   Learn to produce things that are much more valuable (a tool is much more valuable than an end product so if you can learn to produce tools you can make a lot more than if you just use tools).  If you are able to manage people effectively, you will be able to get a lot more done than you can on your own, which will translate into higher pay.

A minimum wage job is a starter job that lets you gain the skills and experience that lead to better jobs.  Don’t be foolish enough to throw away your chance to work and provide for yourself.  Your life will be much better by doing so, plus your life will have meaning because you will have spent your time taking care of other people’s needs.

Follow on Twitter to get news about new articles. @SmallIvy_SI. Email me at or leave a comment.

Disclaimer: This blog is not meant to give financial planning or tax advice. It gives general information on investment strategy, picking stocks, and generally managing money to build wealth. It is not a solicitation to buy or sell stocks or any security. Financial planning advice should be sought from a certified financial planner, which the author is not. Tax advice should be sought from a CPA. All investments involve risk and the reader as urged to consider risks carefully and seek the advice of experts if needed before investing.

How to Invest a One Million Dollars Nest Egg

So you have a million dollars and you want to make it last rather than blowing it all on stuff.  Good plan!  But how do you invest all of that new-found wealth so that it will keep providing you with income throughout your lifetime and maybe that of your children and your grandchildren?

Well, the answer depends on how old you are when you got the million dollars and how much other money you have.  If you are young and have a job that provides a steady income, you can afford to invest the money in things that will fluctuate more wildly but provide a greater return over time.  If you are entering retirement, however, and that $1 M is a payout from your pension plan or 401K and that is all of the money you’ll have to pay for your expenses through retirement, that is an entirely different scenario.  I’ll therefore look at a few different situations and the thought process that would go into setting up an investment plan in each case.  Since your situation will be particular to you, buying a couple of hours of a financial advisor’s time would be well worth the investment.  Just kindly say “thanks but no thanks” if he tries to sell you a bunch of products because there are plenty of good investments in the open markets that will be cheaper and provide a better return.

Case 1:  25 year-old:

Let’s first look at the case of a 25-year old who wins the lottery. This individual, let’s call her Cindy, still has years to earn a paycheck and therefore can put the money away for a long period of time and let it grow.  Perhaps she would like to enhance her lifestyle a bit – she did win the lottery after all – but also wants to let her money earn money so she can turn that $1 M into $10 M or even $100 M by the time she stops working.  Cindy would want to invest mainly in growth stocks that would allow her to build wealth while minimizing taxes along the way.  She could also spend a portion of the earnings from the stocks, allowing her to do things like take nice vacations and improve her home, while reinvesting the majority of her earnings to let her wealth grow.

Things she should do, therefore, are:

1) Pay off any debts she has outstanding.  She should pay off credit cards, car loans, and even her mortgage.  This reduces her risk substantially and lets her keep her whole income instead of paying it out to others as interest.  Rich people make interest, they don’t pay interest.

2) Put $10,000 into a bank account.  This is her emergency fund that will allow her to take care of any unexpected expenses like a broken leg or a car repair without needing to dip into her investments.  She should keep about half to two-thirds of this money liquid and maybe put  one half to one-third in a 3-6 month CD to earn a little more money. If she needed to, she could sell the CD early and just forfeit a little interest.

3) Invest the remainder in stock mutual funds.  A good mix would be 25% in large cap growth, 25% in small cap growth, 25% in international stocks, and maybe 25% in a value fund.  She could also mix real estate into the mix by purchasing shares of a REIT or a REIT fund, or by purchasing a couple of small rental houses for cash and renting them out if she feels like being a landlord.  If desired, Cindy could also buy a set of individual stocks with some of the money.  For example, she could take $150k of the money and buy $25,000-$30,000 positions in 5-6 individual stocks in different industries and invest the remainder in mutual funds as specified above.  This would give her the chance to significantly increase her return if one of the companies outperformed the markets while still using plenty of diversification.

4) Set a threshold of 8% above which she withdraws some cash, perhaps half of the earnings above 8%.  For example, if her portfolio returns 10% one year, she would withdraw 1% and spend it as she wished.  If she had a year like 2013 where returns were over 25%, she might withdraw 8% (which would be around $100,000) and maybe do something major like a major home upgrade, moving into a nicer home, or buying a vacation condo.  On years when the return was 8% or less, she would let the money reinvest and continue to grow.  She could also put money in a cash account on the really good years and then spend it over the next several years for things like vacations and newer cars.

Case 2: 50 year-old:

Our 50 year-old, let call him Matt, has retirement not too far into his future.  It is great that he has this million dollars to get things in order and go into retirement in style.  Assuming that he won’t retire until 65, he has the chance to double his money a couple of times in the stock market if the economy cooperates and it is not a period like 2000-2009, meaning that he could enter retirement with $4 M.  If he works until he is 71, he might even be able to double it three times, leaving him with $8M for retirement.  This is a bit aggressive, however, since he really doesn’t have the time to recover from a bad market loss.  It happens very rarely, but there are times like 1929 where he may not see high portfolio recover to its previous value for 10-15 years or more.  He therefore needs to use some caution in allocating his funds.

Things Matt should do are:

1) Pay off any debts.  This is still the number one thing he can do to improve his financial security.  Given that retirement isn’t that far away, he should certainly retire his mortgage and direct the money he was paying towards expenses like college tuition so that his children (or he) doesn’t have a student loan in five years.  Paying off other consumer loans would also be at the top of the list.  Getting rid of these will reduce the amount of money he needs to pay out each month, giving him security in the case of a job loss, medical condition, or other life event.

2)  Put $10,000 into a bank account for emergencies.   Everyone should have enough cash on hand to handle events that come up.

3)  Invest the remainder in mutual funds with about 40% in income producing securities.  This could mean putting about 60% of his funds in a growth and income fund (which would contain both growth and income securities), 40% in a bond fund, or maybe 20% in a bond fund and 20% in a utilities fund.  The remainder should still be invested in stocks to grow wealth, but a smaller percentage should be small stocks since they are more volatile.  For example, one possible portfolio might be 40% in a bond fund,  25% in an international stock fund, 25% in a large cap fund, and 10% in a small cap fund.  Individual stocks could still play a role, perhaps building up 5-10 $10,000-$25,000 positions in some big companies that pay a decent dividend like Wal-Mart, Home Depot, Procter and Gamble, Intel, or MicroSoft as part of the portfolio.  A couple of small growth stocks could also be added, but exposure should be limited since this investor has less time to wait for the companies to grow.  Note that Matt should be contributing all he can to tax-sheltered accounts like 401K and IRAs and be buying his income producing assets in those accounts where they will be sheltered from taxes.  Growth stocks should be in the taxable portfolio since these will grow tax deferred anyway so long as Matt doesn’t do much trading.

4) Withdraw some money periodically to supplement lifestyle, but take it easy.  With less time for the portfolio to grow before retirement, a lot of spending could lead to issues with having enough money to make it through retirement.  Matt could probably withdraw about 1% of the portfolio value per year, or about $10,000, to add to his income, but he really wants to let most of the money compound and grow.  Left largely alone with a 40% income, 60 \% growth portfolio, Matt should be able to grow his portfolio to between $2 M and $3 M before retirement age, which would provide a secure retirement.

Case 3: 65 year-old:

Our third case is a 65 year-old retiree we’ll call Barbara.  While a million dollars may seem like a lot, it really isn’t that much when looking at a 25-30 year retirement with medical expenses.  Barbara must therefore be very cautious with her money, particularly in the early years.  She will still need to invest some of her money in growth stocks since inflation will erode her purchasing power if she just keeps everything in cash.  There is also recent evidence that she should start out more cautious and then get more aggressive with her investing as time goes on since a big loss early will hurt a lot more than a similar drop later on.  Here are some steps that Barbara should consider:

1) If she owns her home free-and-clear, she might consider selling and trading down.  She can build up more cash for living expenses, reduce her property taxes and maintenance costs, and generally make things easier.  If this is not an option for sentimental or other reasons, a reverse mortgage is another option to gain some cash from her home to use as a second income source and avoid the need to sell stocks in her portfolio at depressed prices should a market drop occur.  Note that this would result in her selling her home for far less than she would receive if she simply sold her home and traded down, and it is very likely that the reverse mortgage lender would own all of the equity in the home when she died or went to a nursing home.  This  is not an option I would prefer, but it might be an option if staying in your home is worth paying a bit extra and you can accept not leaving your home to your children.

2) She should eliminate all debts and reduce expenses as much as possible.  People in retirement certainly don’t need to be paying credit card or car loan interest.

3)  She should build up a big emergency fund of 3-5 years’ worth of expenses.  This would provide money for living expenses should a market downturn occur.

4)  She should invest a portion of her account in income producing securities.  This would be bond and high yield mutual funds as well as dividend paying stocks, REITs, and other assets.  Rental real estate is another option that can generate some regular income.  Holding more cash reduces the need for income producing assets and vice versa.  If Barbara had 5 years’ worth of cash, she might keep 30-40% of the rest of her portfolio in income securities.  If she only had 2 years’ worth, she might keep 50% in income securities.

5) She should invest the remainder in stocks, with the balance spilt between large caps and international stocks.  A small percentage, like 5-10%, might be kept in small cap stocks.

6)  She should consider products such as annuities to provide a steady income stream.  Some annuities kick in at a late age, like after the investor turns 85, and pay a lot more than they would if they started paying as soon as they were purchased.  With any product like this, however, the insurance company will make more on average than the buyer, so you are paying a fee to shift risk from yourself to the insurance company.

Follow on Twitter to get news about new articles. @SmallIvy_SI. Email me at or leave a comment.

Disclaimer: This blog is not meant to give financial planning or tax advice. It gives general information on investment strategy, picking stocks, and generally managing money to build wealth. It is not a solicitation to buy or sell stocks or any security. Financial planning advice should be sought from a certified financial planner, which the author is not. Tax advice should be sought from a CPA. All investments involve risk and the reader as urged to consider risks carefully and seek the advice of experts if needed before investing.

How Much Money Do You Need to Get Started in Stocks?

If you don’t want to start a business, investing is the key to growing wealthy.  And equities are a great way to invest because they are one of the few investments that will outpace require inflation and require almost no maintenance.  Your shares of IBM won’t call at 2 AM and complain that the heat is out, and you won’t pay taxes until you sell the shares (unless your investments pay a dividend), so your money can compound.

So what is the best way to start investing in stocks, and how much money is needed?  There are two ways to invest in equities – by purchasing individual stocks or by purchasing mutual funds.

Investing in individual stocks is the more risky option since you are opening yourself up to specific company risk.  The company you select may have a bad quarter or bad year.  On the other hand, if you select well you can prosper handsomely as the company you select grows faster than the rest of the market over a period of several years.  Imagine what it would have been like to buy shares of Microsoft, Home Depot, or Wal-Mart in the early years and hold the shares until today.

Buying individual stocks is also tax effective.  If you buy a growth stock with no dividend, your money will compound tax-deferred as long as you don’t sell your shares.  Individuals like Warren Buffett and Bill Gates have paid very little in taxes relative to their vast wealth because they have kept most of their money invested and not sold many shares.

Buying mutual funds increases your chances of getting something close to the market returns, which has been around 10-15% over long periods of time.  This is enough to make you a multi-millionaire by the time you retire if you invest a few hundred dollars a month through a 401k or other tax-deferred account.  This is far better than the returns from a bank account or CD, averaging between 0-3%, or even bonds, which average between 6-8%.  That difference in returns will add up to millions of dollars over a working lifetime.

So how much is needed to invest in individual stocks or mutual funds?   Let’s start with individual stocks.  Any stock that would be worth buying would cost at least $10 per share.  You should buy at least 100 shares at a time to make it cost-effective.  You would therefore need at least $1,000 to buy into an individual stock (plus maybe $25-$100 for brokerage fees).  Having $2,000 would be better, allowing you to buy a stock selling at $20 per share or 200 shares of a $10 stock.

In mutual funds, you’ll want to buy into index funds since they have the lowest fees, meaning that you will get the greatest return.  They also tend to have lower minimum purchases.  The minimum amount you can invest varies by the fund, but you can find funds with initial buy-ins as low as $3,000.  After that, you can send in a little money at a time – even $25 to $50 – and buy more shares of the fund.  Some funds may even let you make an initial investment of $1,000 or less if you agree to sign up for automated payroll deductions to purchase more shares of the fund.  This is a good way to go since it will force you to invest regularly, which is the secret to doing well and growing wealth.

Buying your first shares of stock or a mutual fund, however, is just your first step.  If you want to grow wealthy, you should be buying shares regularly.  If you are investing in individual stocks, you should be sending $300-$500 each month into your brokerage account and then buying more shares each time you have $2,000-$3,000 to invest.  Do this for five or ten years, building up positions in several stocks, and you’ll have a $50,000-$100,000 portfolio before you know it that can actually contribute to your income.  You should also start to diversify by purchasing shares of mutual funds as well once your account balance starts to build.

If you are investing in mutual funds, it is even easier.  Just send $300-$500 per month into the fund company.  Build up a $10,000 position in your first fund, then sell some shares and purchase shares in a second fund.  Do this until you have positions in 3-5 funds that invest in different segments of the market, then keep contributing to build these positions.

Investing is a long-term process that goes well beyond your initial investment.  It takes $1,000-$3,000 to get started, but then it is the regular monthly investments that really gets things moving.

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Follow on Twitter to get news about new articles. @SmallIvy_SI. Email me at or leave a comment.

Disclaimer: This blog is not meant to give financial planning or tax advice. It gives general information on investment strategy, picking stocks, and generally managing money to build wealth. It is not a solicitation to buy or sell stocks or any security. Financial planning advice should be sought from a certified financial planner, which the author is not. Tax advice should be sought from a CPA. All investments involve risk and the reader as urged to consider risks carefully and seek the advice of experts if needed before investing.